Insights and Opinions

Starting Up In A Downturn

Salmon live most of their lives swimming with the current. However, once they
reach reproductive maturity, they make an arduous journey upstream,
often jumping up waterfalls, in order to reach the spawning grounds
of their birth.

Salmon do not decide to make
their epic trek based upon weather conditions, the flow rate of the
streams they must traverse or even how far they happen to be from their
destination. Rather, they begin their journey when their biological
alarm sounds, irrespective of exogenous conditions.

This is the same mindset that would-be entrepreneurs should have when deciding the right time to jump into the startup world.

Attempting to determine the perfect time to enter the startup market, whether by starting or joining an venture, is akin to trying to time the financial markets. Those who attempt to do so find it is a consistently doomed strategy. According
to financial columnist Daniel Solin, “One large study looked at more
than 15,000 predictions by 237 market timing newsletters over a 12-year
period. At the end of the period studied, 94.5% of the newsletters went
bust.”

Timing is everything in comedy and in life. When deciding the right time to enter the startup world, the timing that matters most is your personal, nanoeconomic timing – the financial and non-financial facets of your life that will be impacted
by entering the world of startups. Just like there is never an “ideal”
time to get married, have children or buy a house, there is never an
“ideal” time to start a company or join a startup. If your nanoeconomics
are aligned, then assess the microeconomic issues associated with the
various markets that will impact your startup. If the microeconomic
factors are not in your favor in a particular market segment, it may
be possible to shift your focus to a healthier, more conducive market.
If your personal timing is right and you can identify favorable microeconomic
markets, the broader macroeconomic issues are largely irrelevant to
your “startup timing” analysis.

I am not suggesting that an
economic downturn is a blessing to be cherished. Clearly, a strong wind
at your back can be greatly beneficial when launching a startup. However,
an economic downturn is also not a valid excuse to delay starting an
entrepreneurial career. Even in a recessionary market, there are good
reasons to begin a startup in a downturn, as outlined in the following
list.

Ten Reasons To Startup In
A Downturn

1. Increased Probability
of Success

It may sound counterintuitive,
but the greater constraint investors place on their financial resources
during a downturn, the better your chances of success, given (of course)
that your venture is able to either secure funding or generate adequate
revenue from Customers, as described below in #7 - Customer
Dollars Taste Great.

Marginal ventures that
might be funded in a vigorous economic environment will not attract
sophisticated investors’ time, attention or money in a downturn. Fortunately,
this reality results in more of these valuable resources being applied
to a fewer number of viable opportunities. If your venture does not
receive funding and you are unable to operate on customer revenue, then
the Darwinian world of business is trying very hard to tell you something – be sure to listen.

It may be frustrating to
attempt to raise money in an economically challenging market. However,
such conditions may actually grant you a reprieve from years of struggle
at a “living dead” startup that never should have been funded in
the first place.

2. Hard Knocks
U

“You can learn very
little from victory. You can learn everything from defeat.” Christy
Mathewson, Hall of Fame pitcher

Christy was correct. Victory
usually satisfies, but it seldom educates. Successful entrepreneurs
learn far more from the bumps in the road than they do from effortless
successes. Thus, the more creative and wily you are forced to become,
the more your problem-solving toolkit will grow.

Elbert Hubbard, a 20th-century
writer and artist, once said, “A failure is a man who has blundered
but is not capable of cashing in on the experience.” Blunder away,
but be sure to learn from each experience so that when you graduation
from Hard Knocks University, you will have a masters degree in Down-Market
Survival Tactics. Rising with the tide requires less effort, but it
seldom positions you well for the inevitable market downturns.

3. Great Campfire
Stories

“The only thing that
overcomes hard luck is hard work.”

Harry Golden, newspaper
publisher

Adversity can bring your team closer together. A company that perseveres and succeeds in a challenging market will have a much greater probability of success, once the market becomes more robust. Behavioral scientists have proven that the more arduous your collective journey, the stronger your team's cohesion.

A 1959 study by Elliot
Aronson and Judson Mills confirmed that the more adversity a person
endures, the greater value they associate with the experience and the
higher their degree of loyalty to the team with whom they shared the
challenging experiences. Per their study, Aronson and Mills required
some subjects to suffer extreme embarrassment, before allowing them
to join a discussion group that, by design, was “worthless.” The
subjects who faced an arduous task in order to join the group consistently
rated the discussion group highly. In contrast, control subjects who
were allowed to join the group without completing difficult or embarrassing
tasks consistently rated the very same discussion group as “worthless.”
Aronson and Judson conclude that, “...persons who go through a great
deal of trouble or pain to attain something tend to value it more highly
than persons who attain the same thing with a minimal effort.”

This phenomenon is seen in the numerous initiation ceremonies of primitive tribes, as well as hazing associated with fraternity pledge programs. If something is hard to obtain, we assign greater value to it. As such, a startup team that
faces a variety of rigors in order to succeed is likely to consist of
motivated employees that have a high group affinity and a resulting low turnover rate.

One upside of a downturn is that the overall size and quality of the potential employee pool increases substantially. New recruits also tend to be more flexible
and willing to accept below-market salaries in exchange for equity-based
compensation. Troubling economic times also heighten the effectiveness
of the Blondin
Test. People
who are willing to join your team during an economic crisis are more
likely to have a risk and reward profile that is suited to an venture.

Market uncertainty also
tends to weed out Wantrepreneurs, as they are generally more reticent
to join a startup when their personal path to riches is less certain.
However, a recessionary market also generates a number of Big Dumb Company
(BDC) refugees. Such individuals are often desperate and willing to
talk themselves into nearly any position that will pay their bills.
Although you might get lucky and identify An
Entrepreneurial Gem,
be wary when interviewing BDC refugees, as they may not have the appropriate
personality or risk profile to add value to your venture over the
long term.

5. Above The Crowd

“Why march to
the beat of your own drummer when you can skip?”

Dave May, blogger

Every entrepreneur who
has competed in a vibrant market knows that one of the biggest challenges
is getting noticed. As the overall “noise level” of the market
mounts, it becomes increasingly difficult to attract the attention of Messengers, Donors, investors, potential customers and
would-be partners.

Success stories are less
common in a “down” market, which generally results in meaningful
exposure for those startups that succeed. GoToMyPC received tremendous media coverage
during the depths of the dotbomb crash, in part because it was a contrarian
success story in the midst of a high-tech wasteland. Although it can
be more difficult to extract money from customers’ wallets in an economic
downturn, the overall decrease in market activity makes it easier for
small companies to cut through the clutter and tell their story, as
described more fully in PR
Passion.

6. Match Value Prop
With Market Realities

“A bend in the road
is not the end of the road... unless you fail to make the turn.”

author unknown

Some startups are well-matched
to succeed in economically challenging markets. However, even if your
venture is not ideally suited to a market slowdown, you may be able
to modify your company’s value proposition to conform to the demands
of a downturn. For instance, a product that enhances productivity can
be sold as a revenue generator in an “up” market and as a
cost saver in a “down” market.

Selling a cost-saving solution
is more difficult in a robust market, as greater value is placed on
making money when times are good, as opposed to saving money. However,
when survival becomes an immediate goal, products that help companies
weather near-term economic storms become especially attractive in a
recessionary market.

In addition to the success
of our GoToMyPC consumer offering during the high-tech
recession of 2001 - 2003, we also sold a substantial number of licenses
of our enterprise-based customer support solution, GoToAssist. By demonstrating a clear return on
our customers’ investments, in the form of shorter and more effective
customer support calls, we closed a number of substantial sales with
Fortune 1000 companies that had otherwise “frozen” their technology
infrastructure budgets.

7. Customer Dollars
Taste Great

“Money is plentiful
for those who understand the simple laws which govern its acquisition.”George Clason, financial author and publisher

In flush times, many startups
raise too much money. An excess of capital is often driven by venture
capitalists (VCs) who tend to stuff as much money as possible into deals
they especially like, as they want to own as large a percent of such
ventures as is reasonably possible. Sophisticated investors understand
that the ideal source of capital is from customers’ wallets, not VCs’
bank accounts. Not only does such revenue validate the startup’s value
proposition, it results in zero dilution.

As Guy Kawasaki notes in The Art Of The
Start, sometimes
“good is good enough.” When companies are not forced to bootstrap
their operations, there can be a tendency to dither about and attempt
to craft an ideal solution. However, when faced with a precarious bank
account, many ventures are forced to quickly develop a Minimally Viable
Product before they have a chance to over-engineer it. The sooner you
generate customer revenue and incorporate customer feedback into your
solution, the faster it will become competitive, thereby enhancing your
ability to thrive without a stockpile of investor funds.

8. Phoenix Effect

“If you want to succeed,
double your failure rate.”

Thomas J. Watson, IBM Founder

A firm that survives an
economic nuclear winter is much better positioned to take advantage
of an economic uptick, as opposed to a startup that does not launch
until an economic turnaround has begun to manifest itself.

This was the case with
Computer Motion. We entered the medical device market during the recession
of the early 1990s. The medical market was particularly challenging,
as Hillarycare caused a great deal of uncertainty, resulting in most
hospitals keeping their checkbooks firmly closed.

We addressed these market
realities by leasing our surgical robots, rather than following the
conventional path of selling them outright. We sold the leases to a
finance company, which provided us with a lump sum of cash and allowed
the hospitals to purchase the robots for a relatively small monthly
fee. Leasing conformed our sales approach to match the hospitals’
fiscal realities, while still generating the cash we needed to operate
our business.

If we had stayed on the
sidelines, waiting for a more ideal market environment, we would have
lost the opportunity to file the landmark medical robotic patents that
eventually motivated Intuitive
Surgical to purchase
Computer Motion for approximately $150 million.

9. Measure Thrice,
Cut Once

“Failure to prepare
is preparing to fail.”

John Wooden, Basketball
Coach

That is correct, do not
measure twice – measure thrice. A market downturn slows the velocity
of everyone’s efforts. This does not give you a license to
only work 10-hour days and take off both days every weekend.
However, it does give you the luxury of some degree of deliberation,
which is often more challenging to employ during periods of economic
frenzy. A heightened degree of thoughtfulness will reduce costly mistakes,
such as bad hires, one-sided partnership agreements and expensive marketing
commitments.

Top talent is not the only
resource you can economically acquire in a downturn. Nearly every resource
needed to fuel your business will cost you less when times are tough.
As noted in Beware
The Consultant,
an entrepreneur’s two most valuable resources are her time and money.
A down market results in a much higher propensity for companies to negotiate
below their list prices and to even barter for in-kind services. Such
a market allows you to creatively craft deals that reduce your costs
and help you conserve your cash.

If your business model
is predicated upon a significant marketing spend, a depressed economy
can be to your benefit, as publishers are generally willing to heavily
discount their perishable ad space, rather than allow it to go unsold.
During the dotbomb bust, we were able to negotiate very aggressive Cost
Per Acquisition (CPA) deals with a number of major publishers, including
those that publicly declared that they, “never did CPA deals.” Such
agreements were a boon to GoToMyPC, as it allowed us to limit our payments
to bounties for each new customer acquired. This allowed us to conserve
our cash and invest the revenue generated by each new customer into
acquiring additional customers.

11. Pollyanna Need Not Apply

Most companies do not succeed
by executing the business plan that they initially implement. As such,
there is seldom anything to be gained by waiting for an “ideal”
time to enter the startup realm. Even if you perfectly time the microeconomic
market(s) associated with your initial business plan, the timing might
or might not be ideal within the unforeseen markets which comprise your
ultimate go-to-market strategy. Thus, even if the current market conditions
appear attractive, they may become irrelevant as your business model
morphs to conform to future market realities.

Your personal clock is ticking,
irrespective of macroeconomic events, which are out of your control.
As described in What
If?, if you
wait until macroeconomic conditions are preferential, you may find that
your personal situation is no longer suited to either starting or joining
an venture. With the passage of time, your risk profile may be compromised
by having to support a family or pay a mortgage.

Salmon die soon after they complete their laborious trip upstream, and ultimately
serve as fertilizer for their offspring. However, unlike salmon, once
your upstream trek is completed, you can swim downstream with
the current, and enjoy the momentum associated with an economic upswing.

In the startup world, there
is always an upside to a downturn. Adversity translates into opportunity
for those willing to swim upstream and not wait until the tide turns.
Go ahead and jump in, the water feels great.

John Greathouse has held a number of senior executive positions with
successful startups during the past fifteen years. At Computer Motion (RBOT), he was
the CFO and VP of Business Development. At Citrix Online (CTXS - formerly
Expertcity), Greathouse served as CFO and SVP of Strategic Development. At CallWave
(CALL), he served as the SVP of Sales & Bus Dev. In his capacities at Computer Motion
and Citrix; Greathouse spearheaded transactions which generated more than $350
million of shareholder value, including Computer Motion's initial public offering and
the sale of Expertcity to Citrix for over $230M. Greathouse is a Partner at Rincon
Venture Partners (www.rinconvp.com">http://www.rinconvp.com">www.rinconvp.com).